It’s a joke, but no one’s laughing

A closer analysis of how American citizen Jack W. Flader jnr got away with $123 million in Australian superannuation savings without being punished shows that the world’s regulatory safety net is a joke.

The regulators paid to protect your super or enforce the law are no match for the new breed of scam merchants who operate in multiple jurisdictions. They are adept at using legal entities in several countries and they know how to take advantage of the benefits of regulated capital markets.

The methods used to rip people off are quite elaborate and involve complex webs of companies incorporated in various jurisdictions including Cayman Islands, Hong Kong, Anguilla, Belize, Cook Islands and British Virgin Islands. Also, they make good use of the international banking system as well as networks of fiduciary bodies run by respected institutions.

In the Trio Capital case, Flader controlled all the offshore investment funds used by Trio Capital, which was the licensed trustee of five registered super funds as well as the responsible entity of an Australian managed investment scheme.

The $123 million in funds that were unable to be redeemed from Flader’s overseas funds have been lost due to “fraud or theft", according to the acting trustee appointed to the Trio funds.

Flader has made a mockery of the global corporate regulatory system. No action has been taken against him over the Trio theft by authorities in the United States, Hong Kong and Australia despite the fact that his lackey in Sydney, Shawn Darrell Richard, a Canadian, was sentenced last year to three years and nine months in jail for fraud.

The sentencing judge, Peter ­Garling, said Flader was the ultimate controller of Richard.

The regulatory system is a joke for at least five reasons.

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First, Flader was able to set up licensed entities in Australia, the United States and Hong Kong to raise funds and channel them into his control. This included setting up a “clean" shop-front in Australia.

Flader got Richard to run a financial services business licensed by the Australian Securities and Investments Commission (ASIC). It issued product disclosure statements to Trio victims primarily living in and around Albury Wodonga.

Trio had all the appearances of being properly run, including a board of trustees, which at one stage included Richard. Trio was regulated by the Australian Prudential Regulation Authority (APRA).

The second reason the system is a joke is because the warning signals about the case were not picked up by the relevant authorities.

APRA became aware of valuation issues in certain of the investment funds controlled by Flader following a prudential review in August 2008. But the regulator did not take further action after this red flashing light in relation to Trio.

APRA was recently asked in a question on notice to Senate ­estimates hearings about its supervision of Trio.

Five questions were put to APRA on notice last year by Liberal senator David Bushby. He asked how many prudential reviews had been conducted in relation to Trio, when the reviews occurred, which APRA officers were in charge of the reviews, what were the results of the reviews and when were the results of each review reported to the government.

Bushby asked the following questions: in relation to Trio and related entities how many such prudential reviews were conducted during the history of this entity/ies?; when did the reviews occur, and what check list items were covered in each?; which APRA officers were in charge of these reviews?; were the results of the reviews reported to the APRA board?; when were the results of each review reported to the government?

APRA did not answer any of the questions.

APRA has accepted enforceable undertakings from six former Trio directors, who have all undertaken not to act as a trustee or a responsible officer of a body corporate that is a trustee, investment manager or custodian of an APRA-regulated super fund. The six former directors to have accepted enforceable undertakings for various periods of time are: John Godfrey, Natasha Beck, Rex Philpott, David Andrews, Keith Finkelde and David O’Bryen.

All the directors have acknowledged that with the benefit of hindsight, and what has since transpired, that they should have acted differently in relation to APRA’s concerns about Trio’s governance. Also, they genuinely regret the consequences that arose.

Beck says she was not a member of the Trio risk and compliance committee, was a member of the investment committee for a short space of time and sought to resolve APRA’s concerns at an early stage.

APRA says it is continuing its investigation into the Trio collapse. It said it intended to take action against any former Trio director who failed to meet the high standards expected of them as super trustee directors and had not acted in the best interests of members.

A third reason the regulatory ­system is a joke is because of jurisdictional boundaries that stop the efficient pursuit of those involved in allegedly fraudulent activities.

ASIC is the body responsible for pursuing the Trio fraud but its jurisdiction does not extend to Hong Kong where Flader ran his business.

You would think that after the Lehman Bros collapse and all the disasters caused by sub-prime mortgages, the world’s regulators would have worked out a way to co-operate in catching crooks. But years of meetings in relation to multi-lateral co-operation in securities markets and banking supervision have not helped on that front.

ASIC did manage to get the Hong Kong Securities and Futures Commission (SFC) to interview Flader in Hong Kong in December 2009 and February 2010. But that went nowhere.

Apparently Flader did not break any laws in Hong Kong, so there were no grounds for an official investigation by the SFC. The bizarre nature of the co-operation between ASIC and the SFC means that the transcripts of the Flader interviews, which are now in the possession of ASIC, cannot be made public.

We will never know what he was asked or what he said.

But ASIC has learnt a lesson from the Trio fraud. It says that people like Flader should not be able to walk in so easily and set up a responsible entity of a management investment scheme.

The fourth reason why the regulatory system is a joke is because Flader was able to freely use the services of those operating in highly regulated capital markets while leaving no fingerprints on the fraud.

Admittedly, his fund of fund hedge funds traded in over-the-counter shares in the US that were not listed on an exchange. Flader also used derivative instruments such as put options.

It turns out he was able to manipulate the final trading prices to either inflate the value of stocks or devalue them, depending on what suited his purposes.

It is one thing to invest under the umbrella of an international regulatory framework that is the laughing stock of people like Flader; it is another thing altogether to have to pay for its failings.

Everyone in Australia with an APRA-supervised superannuation fund is paying for just under half of Flader’s $123 million in gains.

It is not well understood that when Financial Services Minister
Bill Shorten
announced a $55 million compensation package for the 5000 victims of Trio he did not get the money from all taxpayers. The balance of the losses were in self-managed super funds.

To pay for the $55 million, he imposed a financial levy on regulated super funds. In doing so, Shorten sent a message to the Jack Fladers of this world – rip Australians off through the compulsory super system and we will underwrite your ill-gotten gains.

ASIC sources say that Flader has sold his business in Hong Kong and is now living in a house in the seaside resort of Pattaya, Thailand.